Entry into currency?

What BitCoin is — near as I can make out — is a token that you earn by lending your computer’s processing power to some function — I think processing transactions. As you do this you earn more tokens and the idea is that you can exchange those tokens for stuff on the Internet.

Is this crazy? It turns out that it isn’t necessarily crazy. BitCoin is structured to have a fixed supply of tokens and so at some point it will become harder to earn them through your computer. But the quantity theory of money will hold and so the rate of exchange of computer power to goods earned should stay constant in equilibrium (unless something happens to velocity). As Eugene Fama pointed out years ago what you need to have money take off is some scarcity of supply. The people behind BitCoin have thought through that.

So the next question is: what function will it serve? The return in terms of goods acquired for processing power given is something that can be priced now; in existing currency. There is no reason to suppose that BitCoin will change this rate of exchange fundamentally. It may unlock some computer power (liquifying it) but it could do that without launching a new currency. I can’t see the market here.

Like this:

Related

5 thoughts on “Entry into currency?”

Incoming nerd rage:
You’ve misunderstood Bitcoins – The task it’s getting your computer to do is completely meaningless, it’s just a known hard problem with no algorithmic shortcuts. They’re not attempting to harness computing power for commercial gain, they’re simply using it as a mechanism to control the money supply.
What’s the purpose of Bitcoins? It’s an entirely distributed currency that can be exchanged in near real time, it’s digital, encrypted and isn’t reliant on any third party. It’s also irrevocable.
What’s the appeal? It’s essentially unforgeable, it’s a totally convenient means of exchange, and because there is no central authority there are no fees associated with transferring coins.

It seems to me that the use of bitcoins is an unstable equilibrium. People only accept them as payment because they expect others to accept them as payment – its the standard monetary exchange model with multiple equilibria, and all it would take is a small shock to the system to move the equilibrium to the point where no one accepts bitcoins.

I think a lot of people seem to like bitcoin for political reasons. Libertarians who don’t want a central bank to control the money supply like them, almost everyone else can’t see the point.

This is similar to a system I’ve seen proposed for killing off email spam. If there is even a micro-cost associated with sending email – then spamming goes away. Cycles – or BitCoins in this case – has been proposed as a method of doing so in the past.

Anthony’s kind of right, but the computations aren’t completely meaningless. The computations that slowly produce new coins (as a side-effect) are the same computations that work to make previous transactions irrevocable. The coin production serves as an incentive for those controlling large amounts of CPU to act as honest nodes in the network.
machild is right about the unstable equilibrium of an unbacked currency, although the size of the shock required is debatable. There have been examples of other such unbacked currencies mainintaing their value over the medium term – the one I’ve seen quoted is the Iraqi Swiss Dinar, which continued to have a stable value in de-facto autonomous Kurdish regions of Iraq for after the Iraqi government had stopped backing the currency, until it was retired by the Coalition Provisional Authority a decade later.